Has an “expert” ever told you that if you own a property as a tenant of the entirety that you cannot utilize the property to satisfy just one tenant’s debt?
Most people will likely answer “yes” to the above question, and it might come as a surprise when I say that the “experts” are incorrect. This is a common asset protection myth that I broke down by purchasing beneficial interest from a spendthrift protected trust.
Again, if you ask an “expert” about this topic, they will tell you that the beneficial interest cannot be removed from the beneficiary due to the spendthrift protection. In most occasions, they are correct about that. If you browse the bankruptcy code, you will usually see specific language dedicated to clarifying how the spendthrift protection stops the trust and its assets from even being involved in a bankruptcy to begin with.
But if you read the language carefully, many spendthrift protected trusts have clauses that serve to contradict—and thus actually cancel out—the spendthrift protection! That means that I could, in fact, purchase beneficial interest from a spendthrift protected trust if it was not written with the proper language.
What sort of language can cause problems and potentially cost you money when your supposedly-protected trust ends up on the market? Let me serve up an example.
A few months back, I met with a bankruptcy attorney for lunch. At the restaurant, he asked me to check over his client’s trust, to see if this trust was secure during bankruptcy. I you know trust agreements, he told me, and I thanked him for the compliment before pointing out that while this trust did include spendthrift protection language, it also demanded that any capital earned by the trust per year must be distributed.
Uh-oh. It was only a few words, but if those assets must be distributed they will be put outside of the trust, making the assets not fall under protection.
The same deal goes for the trust I purchased from bankruptcy as a myth breaking example. The trust document has spendthrift protection language in it, but also ordered assets to be distributed. Who set up a trust with its assets protected, but that absolutely requires that the assets be taken outside of that same protection?
It’s a mistake that could set the beneficiary, or perhaps even you, back hundreds of thousands of dollars.
Say you found a trust for your kids, or if your parents once founded a trust for you. What then? Do you want to be responsible—or do you want your kids to be responsible—for that bad trust language? Review the trust documentation carefully, and have them reviewed by an expert. Otherwise, you might be trapped by the trust and spending thousands to fix those mistakes.
Some other advice for kid-based trusts: be certain to include the kids as beneficiaries of the trust and trustees. This way, you don’t have to deal with distributions. Now, it might put you under higher financial scrutiny, but as long as the T’s entire are crossed and the I’s dotted, it will just make a minor bump in the road.
Above all, you need to work with the right professionals. You need people who are dedicated and knowledgeable in their field, who can work for you and not their own interests. Otherwise, you might end up cracking the piggybank to pay for all the expensive mistakes they cause when creating your trust document language.